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TMI Blog1959 (6) TMI 18X X X X Extracts X X X X X X X X Extracts X X X X ..... ce society incorporated in the state of New South Wales. It has its head office in Sydney and a branch office in London: from these offices it carries on a business of life assurance. It is not in dispute that for the purposes of taxation in this country its life assurance business is to be treated as a business separate from any other class of business carried on by it and the assessments which are the subject of appeal are confined to the income or profits of that business. These assessments relate to number of years, beginning with the revenue year 1947-48 and ending with the year 1953-54. Those for the first five years were made under rule 3 of Case III of Schedule D to the Income Tax Act, 1918; those for the last two under section 430 of the Income Tax Act, 1952, which Act replaced the earlier Act in the process of consolidation. As the provisions of the two Acts do not differ in any relevant particular I shall speak throughout of rule 3 as the governing statutory provision. The course that the case has taken in the courts below is that the assessments raised by the appellant were discharged by the special commissioners has been upheld in the High Court (Upjohn J.) and in t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... visions about tax-free interest to a rule 3 assessment, has no direct bearing upon the present dispute and in any event nothing said by the House in 1947 could amount to an interpretation of the words commercial or industrial profits in the agreement, which was not then before them. I therefore defer until later any further reference to this case. My Lords, I think that what has to be done is first to ascertain what was the nature of the taxation imposed by rule 3, so far as that very special enactment admits of any clear categorisation, and then to ask whether or not taxation on that basis can still be imposed consistently with the obligations undertaken by the United Kingdom under the Double Taxation Relief Agreement. I will set out rule 3 in the form in which it appears in the Income Tax Act of 1918, but before I do so I must make one cautionary remark. The farmers of the rule were concerned to extract what seemed to them a fair quantum of tax from what had hitherto been an unsatisfactory situation. They were not concerned with precise distinctions between commercial and investment income, which in any event do not always admit of such distinction: nor could they be expecte ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ies of determining the true United Kingdom income of a non-resident life assurance company doing branch business here. If that assurance company was organized on the mutual principle, a further difficulty was superimposed: but this particular difficulty was due to the quirk of English judicial reasoning which absolved a mutual company from the possibility of making a taxable profit and could have been corrected at any time by appropriate legislation. It had never been easy to convenient to raise an assessment under Case I of Schedule D on a life assurance society in respect of its trading income. To do so involved valuations of liabilities and assets which were not likely to be annually available. On the other hand, life assurance business by its own nature generates the life fund consisting of investments made out of the premium receipts and accumulated income and the produce of those investments is at least an important part of the annual income of the business. So long, therefore, as the investments were such as to yield interest or dividends from a source in the United Kingdom, the interest and dividends themselves fell under charge to tax and, given the allowance to the com ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ingdom business over the company's total premium income. It is the sum produced by this calculation that is deemed to be profits comprised in Schedule D and charged under Case III. This sum, representing an unidentifiable portion of the income from investments, is charged as being income derived from business carried on in the United Kingdom (see the proviso to rule 3(2)). I regard these last words as very important, for to my mind they indicate conclusively the nature of the taxing provision as being designed to attribute to the foreign taxpayer a measure of income to represent the income of his United Kingdom business. It follows that the effect of the charge is not to charge investments as such or any specific investments. Finally, the fact that, under rule 3(4), the tax charge turns out to be only a supplementary or covering charge which abates or disappears to the extent that tax is otherwise obtained by deduction from investment income or direct assessments seems to me to make it very difficult to regard the nature of the taxing provision as being other than that which I have described. The question we have to determine is how this method of attributing a profit ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ation based on this hypothesis are to be deemed to be income derived from sources in the United Kingdom. I do not think that it is open to us to decide what would be the consequences of taxing the respondent's commercial profits according to this new formula. It is by no means easy to see what other hypotheses are required for excluded by the central hypothesis. The sole issue under appeal is whether the respondent can be taxed at all on the rule 3 basis. In my opinion it cannot be, because the world income from the investments of the life fund, which forms the first stage in the rule 3 calculation of profits, cannot be attributed to the hypothetical independent enterprise without violating the very hypothesis which article III(3) is designed to lay down as the basis of taxability. I did not understand the argument for the Crown to maintain that rule 3 could be applied consistently with an assessment according to article III(3). What was said was that, having regard to the definition of commercial and industrial profits in article II(1)(i), assessments under rule 3 were not affected by article III(3), since the profits they charged were not commercial or industrial pr ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... have left to the end any detailed reference to the opinions of this House in Inland Revenue Commissioners v. Australian Mutual Provident Association [1947] A.C. 605; [1947] 15 I.T.R. (Suppl. ) 71. The issue in that case was different from this one. It turned on the question how, if at all, a rule 3 assessment should take account of the circumstance that some of the life fund investments were by statute free of tax to holders non-resident or not ordinarily resident. When the case began its progress through the courts the general construction of the nature of the rule 3 charge seems to have been governed by Rowlatt J.'s decision in Equitable Life Assurance Society of the United States v. Hills [1924] 8 T.C. 657. In that case he had spoken of the charge as a charge on the investment income simpliciter I.bid. 661: They are taxed on their investments as such, upon a proportion of those investments. Putting that construction side by side with the later decision of the House of Lords in Hughes v. Bank of New Zealand [1938] A.C. 366; 54 T.L.R. 542; [1938] 1 All .E.R. 778; 21 T.C. 472 ; [1938] 6 I.T.R. 636, the Court of Appeal had held that the rule 3 assessment must be adjusted in fa ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... unless I was convinced that it was unmaintainable. As it is, I am not faced with this difficulty, since I agree with the observations of the noble Lords that I have quoted, and my own reading of the statute leads me to the same conclusion. I notice, only to reject, an argument that was presented to, but not pressed upon, us by the Crown to the effect that, as the date of the making of the Double Taxation Relief Agreement preceded by some months the House of Lords decision in the former case, that agreement ought to be interpreted in the light of the view of the effect of rule 3 that had hitherto prevailed and not in the light of law as laid down by this House. I do not accept that it would make any ultimate difference even if the earlier view were treated as the only relevant one, but perhaps it is sufficiently to say that I do not think that such a method of construction as is proposed ought to be applied to a bipartite taxation treaty of this nature. All that can be said in such an agreement is said by article II(3), and that is not sufficient to assist the appellant's case. I would dismiss the appeal. My Lords, my noble and learned friends, LORD SOMERVELL OF HARROW ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... far as investment income is concerned, the tax payable in this country is left untouched by the Double Taxation Agreement. For instance, where an Australian company has investments in this country from which it derives dividends, interest, rents and so forth, it has, of course, to pay tax on that income here by deduction or otherwise. But over in Australia the Australian company, inasmuch as it is an Australian resident, will have to pay Australian tax on all its investment income, wherever derived, including its income from investments in the United Kingdom. The Double Taxation Agreement provides that, when paying this Australian tax in Australia, the Australian company will receive credit for the tax it has paid in the United Kingdom. Such being the general effect of the Double Taxation Agreement, your Lordships are today concerned with its effect on a very special kind of tax which is imposed here under rule 3 of Case III. It is a tax charged on life assurance companies which have their head office overseas and a branch or agency in the United Kingdom. The critical question is whether it is a tax on profits of the business so as to come within the provisions of the Double ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... t was in order to avoid such a situation, so obviously unjust to English taxpayers, that a special tax was introduced. In 1915 it was enacted that life insurance companies, with head offices overseas, should pay tax on a figure calculated according to a prescribed formula. The formula was this: Take the total income which the company receives from its investments all over the world. Then divide this income up. Divide it into proportions according to the volume of business done in life insurance in this country compared with the business done overseas. (This proportion was usually to be ascertained by comparing the premiums received in this country with those received overseas.) By dividing the world investment income in those proportions, you arrive at a fair figure to represent the proportion applicable to the United Kingdom. The company was to be taxed on the figure so ascertained. These 1915 provisions were afterwards embodied in rule 3 of Case III of Schedule D, and I will refer to them as the rule 3 provisions. The critical question, as I have said, is: What is the nature of this rule 3 tax? Is it a tax on the investment income of the company, or is it a tax on the profit ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... that account. Neither party liked the point at all. The Crown (in whose favour it appeared to be) refused to take it. The Solicitor-General (Sir Frank Soskice Q.C.) said Ibid. 616: It is not proposed to address the House on the question whether the wording of rule 3 is such as not to permit any deduction at all. The crown does not, in any event, seek an order putting the respondents in a worse position than the order of the Court of first instance. In spite of the Crown's reluctance, the House was so convinced of the correctness of the point, which it had itself raised, that it decided that the society was not entitled to any exemption at all. The House did not, however, carry its point of view so far as to compel the Crown to accept an order it did not ask for. The House simply reversed the decision of the Court of Appeal and restored the judgment of the court of first instance. Looking back on it now, with all the knowledge since acquired, it does seem a pity that the House insisted on its own point so strongly, for it has been turned to great advantage by the mutual societies as against the Crown. It recently compelled the High Court of Australia to decide a case contra ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... dealing at arm's length with it. But, on this hypothesis, what is the result? If this society were here completely independent, then, being a mutual society, it would not make any profits so as to be chargeable under Case I, and furthermore, being established in this country, it would not be liable to tax under rule 3 at all, because that tax does not apply to independent establishments here. So the establishment here would not be liable to tax under rule 3 at all. This cannot have been intended. It is quite contrary to the tenor of the Double Taxation Agreement which assumes that, if the society does make profits, some of those profits would be attributable to its establishment in the United Kingdom. The true answer, to mind, is that the society does not make any profits from its business within the meaning of the Double Taxation Agreement. But it has a world investment income, and it can be taxed here under rule 3 upon a proportion of that income, and when it comes to pay Australian tax in Australia (on its world investment income) it will receive credit for the amount paid here under rule 3. If I am wrong, it means that the Australian society will no longer have to p ..... X X X X Extracts X X X X X X X X Extracts X X X X
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